Loss of Rail Competition as an Issue in the Proposed Sale

Cleveland State Law Review Cleveland State Law Review

Volume 34 Issue 3 Article 6

1986

Loss of Rail Competition as an Issue in the Proposed Sale of Loss of Rail Competition as an Issue in the Proposed Sale of

Conrail to Norfolk Southern: Valid Concern or Political Bogeyman Conrail to Norfolk Southern: Valid Concern or Political Bogeyman

Mark D. Perreault

Nancy S. Fleischman

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Recommended Citation Recommended Citation Mark D. Perreault & Nancy S. Fleischman, Loss of Rail Competition as an Issue in the Proposed Sale of Conrail to Norfolk Southern: Valid Concern or Political Bogeyman, 34 Clev. St. L. Rev. 413 (1985-1986)

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LOSS OF RAIL COMPETITION AS AN ISSUE IN THEPROPOSED SALE OF CONRAIL TO NORFOLK SOUTHERN:

VALID CONCERN OR POLITICAL BOGEYMAN?

MARK D. PERREAULT*NANCY S. FLEISCHMAN**

1. INTRODUCTION ......... ..................................... 414II. PRESERVATION OF RAIL-RAIL COMPETITION AS A CONSIDERATION IN

RAIL CONSOLIDATIONS ............................... 414A . Prior to 1920 ................................. 414B . 1920 - 1940 .................................. 418C. 1940 - 1980 .................................. 421D . 1980 - Present ................................ 425

Ill. PRESERVATION OF RAIL-RAIL COMPETITION AS A CONSIDERATION IN THE

FORMATION OF CONRAIL AND SUBSEQUENT DETERMINATION TO SELL

CONRAIL ........ ........................................ 428A. 1970's Congressional Response to the Penn Central and

Other Railroad Bankruptcies ..................... 428B. Foundation of Initial Congressional Policy ........... 429C. Implementing the Policy ......................... 432D. The Decision to Sell Conrail ...................... 433

IV. THE DEPARTMENT OF TRANSPORATION'S DECISION TO SELL CONRAIL TO

NORFOLK SOUTHERN AND SUBSEQUENT EVENTS ............... 433A. The Bidding Process and Selection of Norfolk Southern. 433B. Department of Justice Evaluation of Norfolk Southern-

Conrail Consolidation ........................... 435V. A VIEWPOINT ON RAIL-RAIL COMPETITION AND THE NORFOLK

SOUTHERN-CONRAIL AFFILIATION ..... ........................ 436A. DOJ Underestimated the Pervasiveness of Intermodal

Competition in Conrail's Markets .................. 436B. DOJ Placed Emphasis Unprecedented in Recent His-

tory on Preserving Rail-Rail Competition in the Divesti-tures ........................................ 437

C. DOJ's Attention to Rail-Rail Competition Goes Far Be-yond What is Required Under Transportation Law or theNational Transportation Policy ................... 439

* Assistant General Solicitor, Norfolk Southern Corporation.

** General Attorney, Norfolk Southern Corporation.

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CLEVELAND STATE LA W REVIEW

I. INTRODUCTION

The Department of Transportation's (DOT) plan to return Consoli-dated Rail Corporation (Conrail) to the private sector by selling the

federal government's controlling interest to Norfolk Southern Corpora-tion (Norfolk Southern) has, not surprisingly, been the subject of aspirited debate in the transportation and political community since itsannouncement in February, 1985. Detractors have voiced concerns aboutloss of jobs, quality of service, rates, adequacy of the price, tax benefits,effects on other railroads, ports, communities, and even minority ven-dors.1 Perhaps the most virulent yet poorly understood criticism has beenthat Norfolk Southern's acquisition of Conrail would adversely affectcompetition. Critics have said that the sale proposal "runs directlycontrary to [antitrust] policy goals" and would have a serious, adverseeffect on competition. 2 The proposal is a "flagrant violation of antitrustlaws and would create an unconscionable monopoly."3

[T]he proposed sale of Conrail to the Norfolk Southern violatesevery principle of good transportation policy and destroys thecompetitive framework which is the key to the future health ofour railroad system .... [The proposal] would not survive anyrational scrutiny under antitrust concepts that have governedevery railroad merger in this country.4

The purpose of this article is to examine the legal standards histori-cally and currently applied to considering the competitive impacts of railconsolidations in conjunction with the goals of the legislation relating toConrail. With that perspective, a viewpoint will be offered as to whetherthe competitive effects of the proposed sale have been addressed in amanner consistent with those standards and goals.

II. PRESERVATION OF RAIL-RAIL COMPETITION AS

A CONSIDERATION IN RAIL CONSOLIDATIONS

A. Prior to 1920

Prior to the enactment in 1890 of the Sherman Antitrust Act, therewere no federal limitations on mergers or other consolidations of compet-

See Wall Street Journal, Aug. 8, 1985, at 22, col. 1.2 Sale of Conrail: Hearings on S261-31.9 Before the Committee on Commerce, Science,

and Transportation, 99th Cong. 1st Sess. 323 (1985) (statement of Bruce B_ Wilson,Vice-Pres., Law, Consolidated Rail. Corp.).

Youngstown Vindicator, Oct. 16, 1985, at 12, col. 1, (statement of Ill. Atty. Gen. NeilF. Hartigan).

' Sale of Conrail: Hearings on S261-31.9 Before the Committee on Commerce, Science,and Transportation, 219-20 (1985) (statement of Hays T. Watkins, Bd. Chairman and ChiefExec. Officer of CSX Corp.).

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2https://engagedscholarship.csuohio.edu/clevstlrev/vol34/iss3/6

LOSS OF RAIL COMPETITION

ing railroads.5 A Jay Gould or Daniel Drew, if he worried about laws atall, could limit his concern to state corporate law and any state regulatorylaw which might apply to the particular transaction involved. While theenactment of the Interstate Commerce Act (Act) preceded the ShermanAct by three years, its original provisions did not address consolidationsother than "pooling" between different carriers. 6 The Act was primarilydirected, from the shippers' point of view, to eliminating rebates, and,from the carriers' point of view, to achieving some modicum of ratestability in an industry then afflicted with a tremendous increase incapacity without a corresponding increase in business.7 The railroads hadnot reached the stage in their development where consolidation wasviewed as the solution of choice for their problems. Rather, the railroadshad looked primarily to rate agreements and, prior to 1887, the outrightallocation of revenues and traffic among competing carriers, the "pool,"for relief.8

Several years after the passage of the Act, however, a major railconsolidation movement took root. Problems such as the railroads'inability to stabilize rates at profitable levels or to slow reckless expan-sion of lines through provisions of the Act, rate agreements or legalizedpools, as well as problems in the economy (e.g., the Depression of 1893),prompted calls for consolidation of the various lines.9 This movementcollided with the new national policy of enhancing economic efficiency byprotecting and promoting competition, which was promulgated in theSherman Act.

The first major rail unification challenged under the Sherman Act wasthe attempt by the J.P. Morgan-James J. Hill-controlled NorthernSecurities Company to acquire the stock of the Great Northern Railway(GN) and Northern Pacific Railway (NP). This second attempt to amal-gamate these competing rail lines failed when the Supreme Courtaffirmed a lower court decree declaring the consolidation a "combinationin restraint of interstate and international commerce" and therefore

' Cf. G. KOLKO, RAILROADS AND REGULATION 1877-1916 14 (1965).6 Interstate Commerce Act of Feb. 4, 1887, ch. 104, 24 Stat. 379. Pooling, much to the

chagrin of the railroads, was prohibited by the Act. Id. at § 5 (codified as amended at 49U.S.C. § 11342).

7 G. KOLKO, supra note 5, at 7-44.8 Id. at 17-19.v Aldace Walker in 1890 and Collis P, Huntington in 1891 urged rail managers to

consolidate in the interest of ending anarchy. Id. at 64. Following the Depression of 1893and the reorganization of many railroads, J.P. Morgan took the lead in acquiring control of,

although not necessarily consolidating, a large number of carriers, including the Erie,

Reading, Jersey Central, Lehigh Valley, Delaware & Hudson, Northern Pacific, Southern,

and New Haven. Id. at 65-66. These developments did not achieve the desired result as ratesdeclined drastically during the 1890's, from 94o per ton mile to 73v per ton mile. Id. at 66.

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CLEVELAND STATE LAW REVIEW

prohibited by Section 1 of the Sherman Act.1 The compeIc ive analysis bythe Court was primitive by today's standards; the Court simply foundthat GN and NP were "competing and substantially parallel lines fromthe Great Lakes and the Mississippi River to the Pacific Ocean and PugetSound"i" and that

[ilf such combination be not destroyed, all tk advantages thatwould naturally come to the public under the op-ration of thegeneral laws of competition, or between the Great Northern andNorthern Pacific Railway companies, will be lost, and the entirecommerce of the immense territory in the northern part of theUnited States between the Great Lakes and the Pacific at PugetSound will be at the mercy of a single holding corporation. . . .12

A very similar case arose out of Edward Harriman's acquisition ofcontrol of the Union Pacific (UP) and Southern Pacific (SP) systems. TheCourt determined, again without much difficulty, that UP and SP wereactive competitors in that each sought, to some extent, to transport thesame commerce from the East to the Pacific Coast by their lines andconnecting lines, that the consolidation would end that competition;therefore, the combination must be broken up. 13 The Court reached thisconclusion despite evidence that competitive traffic was a comparativelysmall, although by no means negligible, part of the total traffic of UP andSP.14

Several attempts during this period by the highly competitive anthra-cite carriers to reduce the fierce competition between them for transpor-

" Northern Sec. Co. v. United States, 193 U.S. 197 (1904). An earlier attempt by GN to

purchase the bankrupt NP was forestalled by provisions of a Minnesota law prohibitingconsolidation of competing railroads. Pearsall v. Great N. Ry., 161 U.S. 646 (1896).

" 193 U.S. at 326.12 Id. at 327-28. The dissent of Justice Holmes is interesting from the standpoint of the

history of the antitrust laws. In Northern Securities the Court concluded the consolidationwas an unlawful "combination" under Section 1 of the Sherman Act. Id. at 331. JusticeHolmes, in calling for strict construction of Section 1, argued that Section 1 only prohibitedcombinations designed to restrain the trade of others, not the union of former competitors.

Id. at 403, 405, 406-08, 409. This position outraged President Theodore Roosevelt (i.e., "t

could carve out of a banana a judge with more backbone than that"), C.D. BOWEN, YANKEEFROM OLYMPUS 370 (1944), and the doubts thus created about § 1 contributed to the passage

of § 7 of the Clayton Act in 1914. L.B. SCHWARTZ & J.J. FLYNN, ANTITRUST AND REGULATORY

ALTERNATIVES (FREE ENTERPRISE AND ECONOMIC ORGANIZATION) 154 (5th ed. 1977).

"" United States v. Union Pac. R.R., 226 U.S. 61 (1912). At the time UP unlike SP did

not reach California, reaching the Pacific only in Oregon. UP ownership of a steamship line

operating between Portland and San Francisco and UP traffic interchanged with the

S.P.-controlled Central Pacific in Utah for movement into California were, however, cited asevidence of UP competition with SP for California (and not merely Oregon) transcontinen-tal business. Id. at 89-90.

14 Id. at 88-89.

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tation of coal from the Pennsylvania fields to New York Harbor involvedcourt action. At least two of them involved consolidations. In UnitedStates v. Reading Co., 15 the Court ordered the Reading Company, ownerof Reading Railroad, an anthracite carrier, to divest itself of control of theCentral Railroad Company of New Jersey, a parallel line for anthracitemovements to New York. Similarly, in United States v. Lehigh ValleyRailroad,'6 the Lehigh's control of the Delaware, Susquehanna &Schuylhill Railroad, a collection carrier in the anthracite fields, wasfound to be both illegal monopolization and a combination in restraint oftrade.

The Supreme Court's 1922 decision in United States v. Southern PacificCo. 17 postdated the Transportation Act of 1920 but nevertheless properlybelongs with the pre-1920 cases. In 1885 Southern Pacific leased theCentral Pacific Railway (CP), the western portion of the original trans-continental railroad running from San Francisco Bay to Ogden, Utah,and in 1899 acquired stock control of CP. Perhaps spurred by its successin the Union Pacific"' case, the United States initiated an action in 1914calling for SP to divest itself of its interests in CP. The Court's decisionwas a replay of its Union Pacific decision. The Court found that SP andCP were in competition for carrying freight between the East andMidwest and the Pacific Coast [(i.e., the CP over the central corridor inconjunction with connecting lines to the east, SP over its southernroute)]; 19 therefore, this combination was in restraint of trade and SP wasrequired to divest its interests in CP.2°

Thus, as of 1920, a rail consolidation could be enjoined merely byshowing that there was some significant competition between the twocarriers. So long as this was the law, attempted consolidation of tworailroads with more than a negligible amount of parallel operations wasforeclosed.

'5 253 U.S. 26 (1920). The New Jersey courts had earlier forced termination of the leaseby Reading of the Central and the Lehigh Valley because such violated state antitrust laws.Stockton, Att'y Gen'l v. Central R.R., 50 N.J. Eq. 52, 24 A. 964 (1892).

e 254 U.S. 255 (1920). Lehigh was permitted to retain control of the Delaware,Susquehanna & Schuylhill by the Interstate Commerce Commission in 1924, apparently onthe ground that the public interest would not be served by disentangling an alreadyalmagamated railroad. Control of Delaware, Susquehanna & Schuylhill R.R. by LehighValley R.R, 86 I.C.C. 567, 569 (1924).

17 259 U.S. 214 (1922).18 See supra note 13.'9 For example, the CP over the central corridor in conjunction with connecting lines to

the east, SP over its southern route.20 259 U.S. at 229-30.

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B. 1920 - 1940

The Interstate Commerce Act was amended substantially by theTransportation Act of 1920. This legislation marked the return of therailroads to the private sector after two years of federal control promptedby World War I. The new act resulted largely from the belief that therailroads required comprehensive federal regulation to attain rational-ization and stability. 21 This concern was reflected in the provisionspermitting pooling2 2 and requiring a certificate of public convenience andnecessity for construction lines, 23 and the directive to the InterstateCommerce Commission (Commission) to prepare a plan to consolidate therailroads into a limited number of systems.24

There had been strong support in Congress (from the Senate especiallyand Senator Cummins particularly) for a bill authorizing the Commis-sion to order compulsory consolidations.25 However, this feature of thebill did not pass, either in 1920 or in subsequent years, largely because ofrailroad opposition.26 Section 407 of the Transportation Act did permitthe Commission to authorize the acquisition of control of one carrier byanother when the acquisition was in the public interest. Furthermore,section 407 authorized the consolidation of two or more carriers when theconsolidation was in the public interest, in harmony with and infurtherance of the Commission's plan of consolidation and when theconsolidation complied with certain other restrictions. Most significantly,the section added Section 5(8) to the Act:

The carriers affected by any order made under the foregoingprovisions of this section and any corporation organized to effecta consolidation approved and authorized in such order shall be,and they are hereby, relieved from the operation of the antitrustlaws . . . and of all other restraints or prohibitions by law, state orfederal, insofar as may be necessary to enable them to doanything authorized or required by any order made under andpursuant to the foregoing provisions of this section.2 7

The above provisions reflected Congress' belief that the rail system wassufficiently valuable to the nation and unique in character to justify a

21 G. KOLKO, supra note 5, at 229.

22 Transportation Act of 1920, ch. 91, § 407, 41 Stat. 456,480 (codified as amended at 49

U.S.C. § 11342)." Id. at § 402, 41 Stat. 456, 477 (codified as amended at 49 U.S.C. § 10901).24 Section 407, 41 Stat. 456, 480 (repealed 1940).

25 See R. MACVEAGH, THE TRANSPORTATION ACT 1920 278-82 (1923); St. Joe Paper Co. v.

Atlantic Coast Line R.R., 347 U.S. 298, 316 (1954).26 347 U.S. at 315-21.

17 Transportation Act of 1920, ch. 91, § 407, 41 Stat. 456, 480(codified as amended at 49

U.S.C. § 11341(a)).

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national policy encouraging its preservation by consolidation into com-paratively few systems. Advocates of the new bill reasoned that theoperating costs of the carriers remaining after consolidation would bemore comparable and, therefore, rail bankruptcies resulting from mar-ginal carriers attempting to meet price competition with efficient carrierswould be less common.28 Also, Commission regulation could, with fewer,more rationally drawn systems, better preserve the balance betweenassuring reasonable rates to shippers and an adequate return to carri-ers.

29

Congress no doubt also recognized that many of the existing carriers inthis balkanized industry were not viable as then structured and that thelarge capital costs involved in constructing new lines of railroad and thegeographically fixed nature of existing lines prevented ready redeploy-ment of capital. 30 These circumstances supported the adoption of a railconsolidation policy more flexible than that permitted under the anti-trust laws for industries not so infected with a public interest and withoutsuch barriers to entry or exit. While Congress has modified the InterstateCommerce Act from time to time since 1920, and the transportationenvironment has changed dramatically, Congress has not significantlyaltered the national policy promoting rail consolidations reflected in the1920 Act.

The contrast between the consolidation policy under the new law andthe antitrust laws was dramatically illustrated in 1923 when the South-ern Pacific obtained Commission approval for its control of the CentralPacific, only one year after the Supreme Court had ordered divestiture.31

The Commission stated:

We entertain no doubt that such arrangement [divestiture] wouldbe practicable, and we are of the opinion that if the two companiesentered fairly into the spirit of the Supreme Court's mandate,many of the disadvantages to which we have alluded as arisingout of separation would be eliminated or mitigated. On the whole,however, we are convinced that even if everything of this naturewhich can be done were done, the result would be more expensiveand less efficient and satisfactory service than can be renderedunder unified control. The two systems would be weakened bothfinancially and from the standpoint of service.32

What took more time to sort out was the proper accommodation

28 S. REP. No. 304, 66th Cong., 1st Sess. (1919).29 id.30 Id.

31 Central Pac. Ry. Control, 76 I.C.C. 508, affd sub nom. United States v. Southern Pac.Co., 290 F. 443 (D. Utah 1923).

32 Id. at 520.

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between the Act's public interest standard for consolidation and thepolicies of the antitrust laws. The Central Pacific33 case notwithstanding,the Commission in the 1920's and early 1930's considered preservation ofrail-rail competition a significant, even dispositive, factor in treating therelatively few major consolidation proposals which arose while theCommission struggled first to sell, and then scrap, its consolidationplan.3 4 For example, in 1926 the Commission disapproved the proposedlease of the Virginian Railway by Norfolk and Western Railway solely onthe ground that competition between the two lines would be eliminated. 35

In 1930 the Commission employed its powers under the Clayton Act 36

(the Commission did not at this time possess power under the InterstateCommerce Act to order an existing combination broken up37) to order theBaltimore & Ohio to divest itself of its ownership of 42.8% of the stock ofthe competing Western Maryland Railway. 38 (Interestingly, the Commis-sion permitted both of these consolidations thirty years later.39)

The Supreme Court had an opportunity to provide some guidance onthe accommodation between the Act and the antitrust laws in 1932 whenthe Court reviewed the Commission's approval of New York Central'sacquisition of control of the Cleveland, Cincinnati, Chicago & St. LouisRailway and the Michigan Central Railroad.40 The Court opted for

" See supra note 31.34 For a time the Commission was wont to disapprove consolidations for failure to

complement its plan of consolidation. See, e.g., Proposed Control of Erie R.R. and Pere

Marquette Ry. by Chesapeake & 0. Ry., 138 I.C.C. 517 (1928); Control of Buffalo, Rochester

& Pittsburgh Ry. by Delaware & Hudson Co., 131 I.C.C. 750 (1927). No doubt this had a

chilling effect on rail consolidations.31 Proposed Acquisition of Control of Virginian Ry. by Norfolk & W. Ry., 117 I.C.C. 67

(1926).36 Section 11 of the Clayton Act authorized the Interstate Commerce Commission to

enforce compliance with Section 7 of that act where applicable to common carriers subjectto the Interstate Commerce Act. 15 U.S.C. § 21 That power has apparently not been usedsince the Interstate Commerce Act was amended in 1933, see supra note 37, to prohibitconsolidation of two or more carriers other than in accordance with the InterstateCommerce Act. See Seaboard Air Line R.R.-Merger-Atlantic Coast Line R.R., 320 I.C.C.122, 132 (1963), vacated sub noma. Florida East Coast Ry. v. United States, 242 F. Supp. 14(N.D. Fla.), vacated and remanded, 382 U.S. 154 (1965). That rail consolidations were notto be governed by the Clayton Act but rather by the Interstate Commerce Act was furtherdriven home by the 1950 amendment to the Clayton Act exempting Commission approvedtransactions from coverage. See 15 U.S.C. § 18.

" Section 202 of the Act of June 16, 1933 added a provision making unlawful thecontinuance of control or management of two or more carriers other than in accordance withthe Act. Act June 16, 1933, ch. 91, Title 11, § 702, 48 Stat. 217 (codified as amended at 49U.S.C. § 11343(b)).

38 Interstate Commerce Comm'n v. Baltimore & 0. R.R., 160 I.C.C. 785 (1930).a See Chesapeake & 0. Ry.-Control-Western Md. Ry-, 328 I.C.C. 684 (1967); Norfolk

& W. Ry.-Merger-Virginian Ry., 307 I.C.C. 401 (1959).'o New York Cent. Sec. Corp. v. United States, 287 U.S. 12 (1932).

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leaving the Commission considerable leeway without offering meaning-ful guidance:

The fact that carriers' lines are parallel and competing cannot bedeemed to affect the validity of the authority conferred upon theCommission.... The question whether the acquisition of controlin case of competing carriers will aid in preventing an injuriouswaste and in serving more efficient transportation service is thuscommitted to the judgment of the administrative agency .... 41

By the time the Supreme Court considered the accommodation issue indepth again it was some years later and concerned not railroads but theirup-and-coming nemesis, the trucking industry.

C. 1940 - 1980

With the enactment of the Transportation Act of 1940 came belatedcongressional recognition that the dream of a Commission inspiredconsolidation program would not come to fruition. Instead, Congressreemphasized the goal of rationalizing the rail system while freeing thecarriers from the requirement that rail consolidations be consistent withthe Commission's consolidation plan. 42 "[T]he power to initiate mergersand consolidations was left completely in the hands of the carriers.."4 3 The1940 Act also specified the four considerations which must, among others,be given weight in determining whether a rail consolidation, merger oracquisition is in the public interest.44 Preservation of competition was notthen specifically listed.45 Shortly thereafter the Supreme Court finallyaddressed in some detail the proper accommodation between the Act andthe antitrust laws in a consolidation proceeding before the Commission.Although the decision, McLean Trucking Co. v. United States,46 involvedthe consolidation of motor carriers, the statutes interpreted appliedequally to rail carriers.

The Commission had authorized the consolidation of seven large motor

carriers into a new company, Associated Transport, Inc. The new com-pany would be the only single ownership truckline operating from NewEngland to Florida and would become the largest motor carrier in theUnited States. McLean Trucking Company, a competing carrier, sued toset aside Commission approval of the transaction. The Department ofJustice (DOJ) entered the case in support of McLean. 47

41 Id. at 25-26.42 See Transportation Act of 1940, ch. 722, Title 1, § 7, 54 Stat. 898, 905 (1940).43 St. Joe Paper, 347 U.S. at 319.44 See 54 Stat. 898, 905 (codified as amended at 49 U.S.C. § 11344(b)).45 Id.46 321 U.S. 67 (1944).41 Id. at 68-72.

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In reaching its decision, the Court stated "there can be little doubt thatthe Commission is not to measure proposals for all-rail or all-motorconsolidations by the standards of the anti-trust laws."48 Neither, how-ever, has Congress "authorized the Commission in passing on a merger toignore their policy."49 The Court cited provisions of the national trans-portation policy "promoting economical service and fostering soundeconomic conditions in transportation and among the several carriers"and "encourag[ing] the establishment and maintenance of reasonablecharges for transportation services, without unjust discriminations" asthe statutory source for consideration of competition. 50

In short, the Commission must estimate the scope and appraisethe effects of the curtailment of competition which will resultfrom the proposed consolidation and consider them along with theadvantages of improved service, safer operation, lower costs, etc.,to determine whether the consolidation will assist in effectuatingthe overall transportation policy.51

In this case, the Court went on to decide that the Commission had notexceeded its discretion in finding that the proposed consolidation wouldresult in improved transportation service, greater efficiency of operationand substantial operating economies. It further stated that amplecompetition would remain and concluded that the transaction was in thepublic interest.5 2

World War II, post-war prosperity and the economies obtained in thechangeover from steam to diesel motive power delayed for a time a largescale rail consolidation movement. By the end of the 1950's, however,construction of a national highway system and the corresponding devel-opment of a highly competitive motor carrier industry, as well as thegrowth of inland water carriers and pipelines, forced the railroads toconsider again the advantages of consolidation. 53

The McLean54 decision was applied to a rail merger in Minneapolis &St. Louis Ry. v. United States.55 This case concerned Commission ap-

48 Id. at 84-85.49 Id. at 86.50 Id. at 86-87.51 Id. at 87.52 Id. at 88-90." Revenue carloadings of major railroads had dropped from 52,817,915 in 1929 to

37,636,031 in 1955, and dropped further to 27,160,247 in 1970. RAILROAD FACTS 24 (1984).The railroads' market share, by revenue freight ton-miles, dropped from 74.9% in 1929, to56.2% in 1950 and 39.8% in 1970, while the motor carriers' share over the same years rosefrom 3.3% to 16.3% and then 21.3%. Id. at 32. The market share of water carriers on riversand canals, and of pipelines, rose markedly in those years also. Id.

5' See supra note 46.55 361 U.S. 173 (1959).

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proval of ajoint application by the Atchison, Topeka & Santa Fe Railwayand the Pennsylvania Railroad to acquire control of the Toledo, Peoria &Western Railroad (TP&W), a bridge carrier operating principally be-tween a connection with the Santa Fe at Lomax, Illinois and thePennsylvania at Effner, Indiana. The Commission had found that both

Santa Fe and Pennsylvania were, to some extent, competitors of theTP&W since interchanging with TP&W at Lomax or Effner resulted inshort hauling themselves (i.e. both Santa Fe and Pennsylvania had linesparallel to TP&W lines and normally carriers prefer, for revenue reasons,to get their longest possible haul rather than interchange to anothercarrier short of the long haul interchange). Nonetheless the Commissionhad approved the control application and the Court affirmed, relying onMcLean.56

There followed a long line of rail consolidations which were, in almostall instances, approved as consistent with the public interest. Some ofthese involved lines which competed extensively with each other. One ofthe most fiercely contested was the merger of the Seaboard Air Line andAtlantic Coast Line Railroads.5 7 The Seaboard Air Line and AtlanticCoast Line were major competitors of each other in a six state area andtogether owned 81% of the rail mileage in the state of Florida. 58 Of theircombined tonnage, 33.4% was found to be competitive as between the twolines, 59 and both carriers were profitable with every prospect of remain-ing so for the immediate future.60 Nonetheless, the Commission approvedthe merger and, after reversal of the Commission's decision by a federaldistrict court on competition grounds, the Supreme Court, in remandingthe matter to the district court, strongly indicated its concurrence withthe Commission's decision. The Court concluded that the district courthad failed to properly apply McLean and Minneapolis & St. LouisRailway:

[The Commission] recognized that the merger would eliminatecompetition and create a rail monopoly in parts of Florida. But it

found that the merged lines carried only a small part of the totaltraffic in the area involved; that ample rail competition wouldremain therein; and that the reduction in competition would'have no appreciably injurious effect upon shippers and

5 Id- at 238-39

5 The U.S. Department of Justice, the Georgia Public Service Commission, variousrailroads, and a good number of shippers and communities in the Southeast were opposedto the merger Seaboard Air Line R.R.-Merger-At. Coast Line R.R., 320 I.C.C. 122, 124,

161-62 (1963), vacated sub. nom, Fla. East Coast Ry. v. United States, 242 F. Supp 14 (N.D.

Fla.), vacated and remanded, 382 U.S. 154 (1965).58 320 I.C.C. at 163.59 Id. at 164.ro Id. at 146-53.

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communities'.... In addition, the Commission noted that theneed to preserve intramodal rail competition had diminished dueto the fact that railroads were increasingly losing traffic to truck,water and other modes of competition. 61

The merger was ultimately consummated by creation of the SeaboardCoast Line Railroad, which today as Seaboard System Railroad is animportant constituent of the CSX system.

The Commission similarly approved the consolidation of such compet-itive carriers as the Louisville & Nashville and Nashville, Chattanooga& St. Louis,62 the Virginian and Norfolk and Western,63 the Erie and theDelaware, Lackawanna and Western,64 the Baltimore & Ohio andChesapeake & Ohio65 (and later the Western Maryland),6 6 the IllinoisCentral Gulf and the Gulf, Mobile & Ohio,67 and the Pennsylvania andNew York Central.68 It was only in the case of a consolidation where theefficiencies to be realized were relatively small and the loss of intramodalcompetition deemed relatively significant that the Commission disap-proved an application on grounds of loss of competition. This was the casein the proposed acquisition of the Western Pacific by the SouthernPacific.69 These carriers had parallel lines in the central corridor betweenUtah and Northern California, an area of the country in which theCommission found intramodal competition of greater significance thanother areas of the country because of the distances involved.70 Both

6 382 U.S. at 154.

62 Louisville & N. R.R. Merger, 295 I.C.C. 457 (1957), aff'dsub nom. Louisville & N. R.R.

v. United States, 244 F. Supp. 337 (W.D. Ky. 1965). The City of Nashville objected,unsuccessfully, on the ground that the merger would reduce the number of competing trunkline carriers in Nashville from two to one (or three to two, if the Tennessee Central,connecting elsewhere with the Illinois Central and Southern, was considered).

6 Norfolk & W. Ry.-Merger-Virginian Ry., 307 I.C.C. 401 (1959).64 Erie R.R.-Merger-Delaware, Lackawanna & W. RR., 312 I.C.C. 185, appeal

dismissed sub nom. Brotherhood of Maint, of Way Empl. v. United States, 189 F. Supp. 942(E.D. Mich. 1960), aff'd, 366 U.S. 174 (1961).

65 Chesapeake & 0. Ry.-Control-Baltimore & 0. R.R., 317 I.C.C 216 (1962).Chesapeake & 0. Ry.-Control-Western Md. Ry., 328 I.C.C. 684 (1967), appeal

dismissed sub. noma. Pittsburgh & L.E. R.R. v. United States, 294 F. Supp. 86 (W.D. Pa.1968).

67 Illinois Cent. Gulf R.R.-Acquisition-Gulf, Mobile & 0. R.R., 338 I.C.C. 805 (1971),appeal dismissed sub noam. Missouri P. R.R. v. United States, 346 F. Supp. 1193 (E.D.Mo.1972), affd, 409 U.S. 1094 (1973). The Department of Justice opposed the Gulf, Mobile &Ohio acquisition because it believed a substantial loss of competition would result fromconsolidation of the parallel Central and Gulf systems.

6 Pennsylvania R.R.-Merger-New York Cent. R.R., 327 I.C.C. 475 (1966), aff d subnom. Erie-Lackawanna R.R. v. United States, 279 F. Supp. 316 (S.D. N.Y. 1967), affd, 389U.S. 486 (1968).

69 Southern Pac. Co.-Control-Western Pac. R.R., 327 I.C.C. 387 (1965).70 Id- at 400.

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carriers were profitable and the efficiencies and other benefits of theacquisition were largely limited to some operational consolidations.

If there remained any doubt that preservation of intramodal competi-tion was only one factor to be considered in approving or disapproving arail consolidation, that doubt was eliminated in United States v. InterstateCommerce Commission (Northern Lines Merger Cases).71 The consolida-tion between Great Northern and Northern Pacific struck down by theSupreme Court in 1904 was approved by the Court in 1971. The Courtaffirmed Commission approval of the merger citing projected publicbenefits of $40 million per year. These benefits resulted largely frommore efficient routing of traffic, elimination of redundant facilities and areduced need for new employees on the consolidated system, suchimprovements as improved car supply and tracing, wider routing andbetter claims service, and the presence of the strengthened MilwaukeeRoad as a northern tier competitor (the extension of Milwaukee to thePacific Coast had occurred since 1904). 72

D. 1980 - Present

The Staggers Rail Act of 1980 represented a major overhaul of theInterstate Commerce Act designed to promote the rehabilitation andfinancial viability of the railroads by reforming federal regulatory policyto better balance the needs of carriers, shippers and the public. Congressspecifically recognized that railroads historically were the essentialfactors in the national transportation system but that today mosttransportation in the United States is competitive, that nearly two-thirdsof the nation's intercity freight was transported by modes other than rail,and that the earnings of the rail carriers were insufficient to generatefunds for necessary capital improvements. 73 The Act substantially liber-alized regulation of rail rates in the interest of alleviating this capitalshortfall and the general decline of the rail industry.74

Perhaps because the public interest standard for approval of railconsolidations was thought to be sufficiently flexible already, the Stag-gers Act did not overhaul the existing scheme for permitting railconsolidations. Congress did, however, indicate its approval of consolida-tion as a means of promoting the health of the rail industry by limitingthe Commission's discretion to disapprove a rail consolidation not involv-

71 396 U.S. 491 (1970).

72 Id. at 505-16. Court approval came over the vigorous opposition of the Department of

Justice.71 Staggers Rail Act of 1980, Pub.L. No. 96-448, §§ 2, 3, 94 Stat. 1897 (1980).74 See, e.g., § 201(a) (codified at 49 U.S.C. § 10701a) of the Act which provides a rail rate

need be reasonable only if a rail carrier has market dominance over the transportation towhich a particular rate applies. Formerly, all rail rates had to be "reasonable" asdetermined by the Commission. See 49 U.S.C. § 1(5) (repealed).

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ing the merger or control of at least two Class I railroads.7 5 The Act alsoadded to the four factors the Commission must consider in determiningwhether to approve the merger or control of at least two Class I railroads"whether the proposed transaction would have an adverse effect oncompetition among rail carriers in the affected region."76 This factor wasnot deemed a substantive addition to the Act, however, but merely acodification of the existing McLean rule.7 7

The combining of regional railroads into larger systems accelerated inthe 1980's. Recent consolidations have involved the creation of largesystems better able to compete with motor carriers by offering single lineservice over great distances.78 Most have been end-to-end consolidationsbut even these have had some competitive impact.

CSX Corporation - Control - Chessie System, Inc. and Seaboard CoastLine Industries, Inc.79 involved the consolidation of a predominatelymidwestern and northeastern carrier (Chessie) with a predominatelysoutheastern carrier (Seaboard). Chessie and Seaboard did, however,have some significant overlapping operations; both carriers operatedlines between Chicago and the Ohio River for movements beyond, to andfrom the Southeast. "The competition between Family Lines [Seaboard]and Chessie in this market may be described as parallel."80 Nonetheless,the Commission concluded that the elimination of one rail competitor ina market in which several other carriers would remain was outweighedby the procompetitive effects of the single-system service created by thetransaction.8 ' Single-system service would permit CSX to develop newtraffic currently moved by other modes of transportation.

Both carriers were also originators of significant amounts of coal usedby utilities in the Southeast and there was concern about elimination ofthis source of competition.8 2 The Commission acknowledged there mightbe some diminishment of source competition, however, it found this com-

15 Pub.L. No. 96-448, § 228(b), 94 Stat. 1931. A Class I railroad as of 1984 was one withannual operating revenues of $87.3 million or more. RAILROAD FACTS 2 (1984).

76 Pub.L. No. 96-448, § 228(a), 94 Stat. 1931.17 See Norfolk S. Corp.-Control-Norfolk and W. Ry. and S. Ry., 366 I.C.C. 171 (1982).78 In addition to those cases cited in footnotes 75 and 81, see Guilford Transp. Indus.,

Inc.-Control-Delaware & Hudson Ry., 366 I.C.C. 396, aff d in part and remanded in partsub nom. Central Vermont Ry, v. Interstate Commerce Comm'n, 711 F.2d 331 (D.C. Cir.1983); Guilford Transp. Indus., Inc.-Control-Boston & Maine R.R., 366 I.C.C. 294 (1982),affid in relevant part sub nom. Lamoille Valley R.R. v. Interstate Commerce Comm'n, 711F.2d 295 (D.C. Cir. 1983); Norfolk S. Corp.-Control-Norfolk & W. Ry. and S. Ry., 366I.C.C. 171 (1982); Burlington N.-Control and Merger St. Louis San Francisco Ry., 360I.C.C. 788 (1980).

'9 363 I.C.C. 518 (1980), affd sub nom. Brotherhood of Maintenance of Way Employeesv. Interstate Commerce Comm'n, 698 F.2d 315 (7th Cir. 1983).

0 363 I.C.C. at 565."' Id. at 566, 574.s2 Id. at 567-70.

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petition insignificant in light of the fact that most utilities were served byonly one railroad and the few that were served by two railroads would havecontinued access to alternate sources of coal.83 The Commission clearlybelieved that consolidations permitting rail carriers to compete moreeffectively with other modes of transportation were in the public interest,even if some reduction in rail-rail competition would occur.8 4

In Union Pacific Corp.-Control-Missouri Pacific Corp.,85 the Commis-sion concluded that a substantial reduction in rail-rail competition wouldoccur in two instances. The elimination of Missouri Pacific (MP) as anindependent competitor of UP in the central transcontinental corridoreast of Denver was deemed significant and, accordingly, the transactionwas conditioned upon UP granting trackage rights to Denver & RioGrande Western and Southern Pacific to replace MP as a competitor inthis corridor.8 6 The elimination of MP as an independent competitor ofUP between Kansas City and Omaha/Council Bluffs was similarlydeemed significant and, accordingly, the transaction was also conditionedupon UP granting trackage rights to the Missouri-Kansas-Texas Rail-road (M-K-T) between Kansas City and Omaha/Council Bluffs.87 TheCommission was also concerned about possible vertical foreclosure be-tween Kansas City and the Gulf grain export ports resulting from thecombination of UP and MP. UP originated considerable grain in Ne-braska and Kansas and MP and M-K-T were two of the rail carriersoperating between Kansas City and the Gulf ports. Since M-K-T de-pended heavily on UP for interchange of traffic at Kansas City and wouldlikely lose much of this traffic to MP upon consolidation, the transactionwas conditioned upon UP/MP granting M-K-T trackage rights to severalgrain originating points in Nebraska and Kansas in order to preserveM-K-T as an effective competitor south of Kansas City.88 It is notable thatthe Commission protected intramodal competition only in geographicalareas (i.e., longhaul transcontinental corridor) or with commodities (i.e.,grain) where intramodal competition was not thought to be effective.

The Commission has adopted a policy statement applicable to themerger or control of two Class I railroads.8 9 The Commission notes thereare two potential results from consolidation which "would ill serve thepublic-reduction of competition and harm to essential services."9o TheCommission states therein:

83 Id. at 571-73.84 See id. at 574.85 366 I.C.C. 459 (1982), affd sub nom. Southern Pac. Transp. Co. v. Interstate

Commerce Comm'n, 736 F.2d 708 (D.C. Cir. 1984), cert. denied, 105 S.Ct. 1172 (1985).sc 736 F.2d at 726.8' Id. at 720.

88 Id." 49 C.F.R. § 1180.1 (1985).90 49 C.F.R. § 1180.1(c) (2).

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The Commission recognizes that rail carriers face not onlyintramodal competition, but also intermodal competition frommotor and water carriers. The Commission's competitive analysisdepends on the relevant markets. In some markets the Commis-sion's focus will be on the preservation of effective intermodalcompetition, while in other markets (such as long-haul move-ments of bulk commodities) effective intramodal competition mayalso be important.9 1

The emphasis on intermodal competition indicates how far the competi-tive analysis of rail consolidations has come since the Northern Securi-ties92 case.

The bankruptcy of Penn Central and certain other railroads, theformation of Conrail and the subsequent determination to sell Conrailhas a statutory history of its own. Preservation of rail-rail competition isonly one of many goals, but by no means the overriding goal, Congresshas pursued in railroad legislation.

III. PRESERVATION OF RAIL-RAIL COMPETITION AS A CONSIDERATION IN THE

FORMATION OF CONRAIL AND SUBSEQUENT DETERMINATION TO SELL CONRAIL

A. 1970's Congressional Response to the Penn Central and OtherRailroad Bankruptcies

On June 21, 1979, the Penn Central Transportation Company filed apetition for voluntary reorganization under the bankruptcy laws in theUnited States District Court for the Eastern District of Pennsylvania.93

The Penn Central collapse was the largest bankruptcy in Americanhistory up to that time.9 4 It was accompanied by the failure of most of theother railroads serving the Northeastern United States: the Reading,Central of New Jersey, Lehigh Valley, Erie Lackawanna, and smallerlines. 95

At the time the principal tool for accomplishing a railroad reorganiza-tion was Section 77 of the Bankruptcy Act.96 Enacted during the 1930's,Section 77 was designed primarily to facilitate the restructuring ofcapital, which was perceived as the predominant cause of rail failures atthat time, and less so, with the restructuring of rail systems andfacilities. Recognizing that Section 77 was entirely inadequate for thestructural problems of railroads in the Northeast, Congress enacted the

91 49 C.F.R. § 1180.1(c)(2)(i).92 Northern Sec. Co. v. United States, 193 U.S. 197 (1904).

j. R. DAUGHAN AND P. BINZEN, THE WRECK OF THE PENN CENTRAL 306-07 (1971).14 Id. at Inside Front Cover.9 E. F. P. STRIPLIN, THE NORFOLK AND WESTERN: A HISTORY 356-57 (1981).96 See 11 U.S.C. § 205 (1951) (repealed).

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Regional Rail Reorganization Act of 1973 (3-R Act) to provide a morepermanent answer to the Northeastern railroad bankruptcies.97 Thedeclaration of Congressional policy firmly established that the focusremained upon "essential rail service"98 and "identification of a railservice system in the midwest and northeast which is adequate to meetthe needs and service requirements of this region and of the national railtransportation system."99 Preservation and enhancement of rail-railcompetition were not among the stated Congressional findings andpurposes of the 3-R Act. 10 0

Among other things, the 3-R Act provided for the creation of Conrailpursuant to a Final System Plan formulated by the United StatesRailway Association (USRA).101 Consistent with the overall purposes ofthe 3-R Act, the principal goal of the Final System Plan was "afinancially self-sustaining ... rail service system adequate to meet therail transportation needs and service requirements of the [Northeast]."]o2Competition was farther down the list of eight Final System Plangoals.103

Congress' priorities were not accidental or ill-considered. Rather, theysprang from a crisis-generated grasp of competitive realities in theNortheast. The Senate Commerce Committee's lengthy study of PennCentral had recognized the increasing importance of truck and otherintermodal competition.10 4 To provide a better understanding of the placeof rail service, Congress in the 3-R Act required the Secretary ofTransportation to issue a report recommending the geographic zones inwhich and between which continued rail service should be provided.105The required report was issued on February 1, 1974, as Rail Service in theMidwest and Northeast Region (Rail Service), which in turn provided astarting point for the USRA's Preliminary System Plan (PSP) of February26, 1975.

B. Foundation of Initial Congressional Policy

Rail Service and PSP give a clear statement of the rationale for bothConrail's structure and the subsequent legislation.

The current rail system was built in economic times and undereconomic conditions very different from those prevailing in the 1970's.

17 See 45 U.S.C. §§ 701-748 (1974).98 45 U.S.C. § 701(a)(1), (2) (1974).qq 45 U.S.C. § 701(b)(1) (1974).

1oo See 45 U.S.C. § 701 (1974).101 See 45 U.S.C. § 716 (1974).102 45 U.S.C. § 716(a)(1), (2) (1974).103 See 45 U.S.C. § 716(a)(5) (1974).104 SENATE COMM. ON COMMERCE, THE PENN CENTRAL AND OTHER RAILROADS, 92d Cong., 2d

Sess. 304-06 (1972).105 See 45 U.S.C. § 714.

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The system was constructed to meet local transportation and politicalneeds, at a time when other modes offered few alternatives and littlecompetition and with little thought given to national or even regionalneeds.106 Even as competition from other modes developed and prosperedand track miles gradually shrank, system tonnage capacity grew asfreight cars became larger, locomotives became more powerful, yardswere automated and improved traffic control systems were installed.o7

While the physical capacity of the freight system was increasing, therail share of total freight traffic and the need for the increased capacitywas declining. As a result, railroads included many duplicate main lineswith very low average density as compared with capacity,'0 8 thousands ofmiles of local service lines generating insufficient traffic and revenue toreturn the cost of operation, 0 9 and more than one railroad servingmarkets which generated sufficient rail traffic to support only onerailroad."l0

In the railroad industry excess capacity often caused excess competi-tion among competitors unwilling or unable to leave the market. Toomuch competition in the rail industry was one of the causes of infrequentservice, poor plant and equipment utilization, high unit costs, and highrail rates; a combination of these factors exacerbated the financialinstability of the industry.'

In order to assure the public of competitive rates and services, DOTrecommended that only within and between high volume, long haulmarkets was rail-rail competition to be considered.112 Total rail trafficvolume, not market share or other factors, was to be the principaldeterminant in preserving rail-rail competition. Direct rail-rail competi-tion would be preserved only where traffic volumes and flows wouldpermit two railroads to provide service with acceptable operating effi-ciency. 113

DOT suggested certain characteristics for markets within which orbetween which rail-rail competition should be preserved: (1) trafficmust have a length-of-haul of at least 200 miles; (2) traffic volume mustbe sufficient to be handled in efficiently sized trains (i.e., 30 loaded carsfor merchandise trains and 75 loaded cars for bulk commodities); (3) carsin the efficiently sized trains must all be moving in the same generaldirection to minimize out of route movement and intermediate switching;

106 PSP at 2.107 Rail Service at 5-6.108 Id. at 8.109 Id. at 10.110 Id. at 12.

11' PSP at 108.11' Rail Service at 14, 23." Id. at 30.

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and (4) traffic volume and directional flow must support frequent trainservice (i.e., eight trainloads daily inbound or outbound in the samegeneral direction). 14 Applying the numerical criteria it had developed,Rail Service identified only 17 zones, plus certain major gateways, atwhich and between which rail-rail competition should be maintained. 1" 5

DOT concluded that "required improvements in rail operating effi-ciency cannot be achieved without making some significant reductions ininterrailroad competition.",1" 6 Recognizing that intermodal competitionwas a significant market force and an adequate alternative to rail-railcompetition, DOT recommended that in low-volume, short-haul marketsonly intermodal competition be promoted.117

Defining "workable competition" for purposes of the PSP, USRA alsofocused upon the size of the market in terms of rail traffic volume.118USRA accepted the goal of preserving interrailroad competition in majormarkets, but recognizing the conflict with other goals, 1" 9 recommendedservice by only two railroads in major eastern seaboard markets.120

USRA was concerned about eliminating the high costs of excessiveinterrailroad competition and achieving the benefits of economies ofdensity.

12'

USRA looked carefully at the growth and effectiveness of intermodalcompetition; even before restructuring direct rail-rail competition at thecustomer site had become rare.122 The conclusions USRA reached in thePSP were that intermodal competition was an adequate substitute tomeet the public needs in many markets, that indirect rail competitioncould produce many of the same benefits as direct rail-rail competitionand that increasingly efficient intermodal competition would continue toreduce the benefits derived solely from interrailroad competition. 123 Onthis basis, USRA decided that, if necessary, indirect rail and intermodalcompetition could meet the competitive goals of the 3-R Act.

114 Id.

115 Id. at 31-35.116 Id. at 12.117 Id. at 14.1'8 PSP at 109.119 Id. at 12.120 Id. at 39.121 Id. at 107-09. Norfolk Southern's purchase of Conrail will achieve USRA's goal of

preserving competition in major markets (e.g., Cleveland, Toledo, Canton-Massillon, Ohio,

etc.) while achieving economies of density (e.g., consolidating Norfolk Southern, ConrailOhio-St.Louis traffic on Conrail's Muncie, In - St. Louis line). See generally STUDY OF THE

ESTIMATED TRAFFIC DIVERSION AND VIABILITY OF THE DIVESTITURE PROPOSALS RESULTING FROM THE

ACQUISITION OF THE CONSOLIDATED RAIL CORPORATION By NORFOLK SOUTHERN CORPORATION

(Verified Statement of Louis M. Newton) (filed with Interstate Commerce Comm'n, May 24,1985).

122 PSP at 111.123 Id. at 121-22.

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C. Implementing the Policy

The Final System Plan implemented these conclusions. Congressapproved the Final System Plan through express enactment. 124 Accord-ingly, Conrail's creation reflected a carefully articulated policy favoringan efficient railroad as a better competitive instrument than multiple,traffic-starved railroads.

The 3-R Act restructuring was consummated on April 1, 1976, whenthousands of miles of line were actually deeded to Conrail. USRAproposed making major transfers to Chessie, but the breakdown of labornegotiations frustrated this undertaking. 125 Similarly, a USRA proposalto transfer a line into the Wilmington, Delaware, area to SouthernRailway failed because of labor problems.126 Norfolk and Western Rail-way did acquire an approximately 100-mile route making its access fromCincinnati to Chicago and St. Louis less circuitous' 27 and Delaware andHudson Railway acquired trackage rights to Buffalo, Washington, north-ern New Jersey, and Philadelphia. 128 On the whole, however, participa-tion of solvent, privately owned carriers in the restructuring was limited.Aside from labor issues and the emphasis upon creating an efficientrailroad, the problems facing Conrail were simply too overwhelming forsuch participation to be attractive to other railroads.

Several subsequent reports on the future of Conrail emphasized greaterconcern for retaining adequate rail service than assuring continuedrail-rail competition.i 29 Conrail confirmed that trucks, not other rail-roads, were and would continue to be its major source of competition. 130

As the rail market share continued to fall, it had become apparent thatsome major rail markets served by Conrail no longer had the traffic mix

124 See 45 U.S.C. § 718(d) (1).125 See United States Railway Ass'n, Final System Plan 18, 28-29 (1975); Norfolk & W.

Ry. and New York, C. & St. Louis R.R.-Merger, 363 I.C.C. 270, 279 (1980).126 See FINAL SYSTEM PLAN at 26-28.

117 See id. at 19.128 363 I.C.C. at 279. Delaware & Hudson's rights were a last minute response to Chessie

System's decision not to purchase major parts of the Erie Lackawanna and Readingsystems. Id.

129 These reports, issued in response to a Staggers Act directive, were: UNITED STATESRAILWAY ASS'N, FEDERAL FUNDING OF CONRAIL: RAIL SERVICE OBJECTIVES AND ECONOMIC REALITIES

[hereinafter cited as USRA I] December, 1980; UNITED STATES RAILWAY Ass'N, CONRAIL AT THE

CROSSROADS: THE FUTURE OF RAIL SERVICE IN THE NORTHEAST [hereinafter cited as USRA 11],April, 1981; U.S. DEPT. OF TRANSPORTION, RECOMMENDATIONS FOR NORTHEAST RAIL SERVICE,

March 31, 1981; and CONSOLIDATED RAIL CORPORATION, OPTIONS FOR CONRAIL [hereinafter cited

as OPrIONS], April 1, 1981.131 OPTIONS at 2-19. Conrail has continued to emphasize this point. Its 1984 Annual

Report states that "railroads are no longer an inevitable part of the American industrialmachine" because Conrail faces "competition from trucks in every market we serve."Annual Report at 11.

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and volume to support two-railroad service.' 3' Given that the goal ofcompetition is economic efficiency, it was concluded that rail-rail compe-tition should not be subsidized in markets where it is not economicallyjustified. 132 Rail-rail competition provided by the private sector requiredcomparable justification.

Notwithstanding the emphasis placed on creating an efficient railroadand despite several billion dollars of government investment, Conrailshowed a net operating loss of $2 billion between 1976 and 1981.133 Railfreight traffic kept falling as trucks increased their market share in thewell-highwayed Northeast. At intermittent evaluations, the governmentdeclared the bottom had been reached, but it never was.

D. The Decision to Sell Conrail

Finally, in 1981, the prospect of not just continued federal ownership

but continued federal liability for Conrail losses inspired a serious effortto return the railroad to the private sector. The Northeast Rail ServiceAct (NRSA)134 made several reforms designed to make Conrail moreattractive. It also directed that Conrail be sold, as a whole, if possible, butin pieces if necessary. Preservation or enhancement of intramodalcompetition was not a stated concern of the legislation.

IV. THE DEPARTMENT OF TRANSPORTATION'S DECISION TO SELL CONRAIL TO

NORFOLK SOUTHERN AND SUBSEQUENT EVENTS

A. The Bidding Process and Selection of Norfolk Southern

With the assistance of such provisions of NERSA as relief from stateand local taxes, expedited abandonment of surplus lines and federalfunding for employee reductions, Conrail's performance improved andenabled Conrail to meet the requirements for sale as an entity.135 TheDepartment of Transportation began to seek a buyer. It employed theinvestment banking firm of Goldman, Sachs to advise it during theprocess. Goldman, Sachs approached more than one hundred potentialpurchasers.136

Interest appeared to be slight. The only concrete result through 1983was a leveraged offer of $500 million plus wage concessions by labor

organizations representing Conrail employees.1 37

131 USRA 11 at 75.132 Id. at 76.IM" Bus. WK., April 16, 1984, at 80.134 45 U.S.C. §§ 761-767c, §§ 1101-1116.

"i5 See The N.Y. Times, July 4, 1983, at D-27, col. 3.136 Bus. WK., supra note 133, at 74.

137 Cf. supra note 135.

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Norfolk Southern was aware from the beginning that Conrail was forsale. Its constituent railroads, Norfolk and Western and Southern, hadconsidered possibilities in the Northeast under the 3-R Act prior to 1976.They had correctly foreseen the continuing decline of rail business in theNortheast; they reacted to NERSA with caution. Nevertheless, in early1984, a full-scale study of the prospects of a Norfolk Southern-Conrailconsolidation was undertaken.

The study produced paradoxical results. Standing alone, Conrail was abad investment. It would not produce a satisfactory return, and, in fact,over time the railroad would encounter cash flow problems. Yet, incombination with Norfolk Southern, the results were different. Thecombined systems could attract more traffic. At the same time, it couldreduce operation expenses by $140 million a year through consolidationof duplicative lines and facilities. 138 Finally, under existing tax laws,even after giving up Conrail's $1.8 billion net operating loss carryforwardand $305 million in investment tax credits, there would be some benefitfrom Conrail's depreciation deductions. If Conrail did well, the tax benefitwould be less significant because Conrail's own income would offset it,but if Conrail did poorly, the available depreciation deductions wouldmake the losses less catastrophic.

Meanwhile, Conrail's 1983 results suggested that the 1981 reforms andConrail's own drastic cutbacks were producing results. Net income was$313 million.139 There was still no rush of bidders, but on April 10, 1984,Alleghany Corporation publicly announced a $1 billion offer for thegovernment's stock. 140

The Department of Transportation, relieved to have reasonable offer,announced that it would accept bids only through June 18, 1984.141Norfolk Southern made an offer of $1 billion on that date. 142 Thir-teen other companies also submitted bids, some frivolous, a fewplausible."43

DOT began what turned out to be a lengthy bid evaluation process. Inthe course of the summer of 1984, with Conrail having its best-ever year,DOT managed to get the Norfolk Southern bid increased to $1.2 bil-lion.'" In August, DOT named 6 "finalists," reduced to 3 in September:Norfolk Southern, Alleghany Corporation and the Marriott Group. 145 At

138 Cf. Letter from J. Paul McGrath to Elizabeth H. Dole (January 29, 1985) (reprinted in

Sale of Conrail: Hearings on S261-31.9 Before the Committee on Commerce, Science, andTransportation, 99th Cong., 1st Sess. 49 (1985)) [hereinafter McGrath Letter].

139 See Bus. Wx., supra note 128, at 76.140 Cf. TRAFFIC WORLD, May 7, 1984, at 18-19.141 Id.142 Roanoke Times & World News, June 19, 1984, at Al, col. 1.143 See The New York Times, September 20, 1984, at D-4 cot. 6.144 See id.145 See id.

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that time DOT referred the Norfolk Southern bid to the Departments ofJustice and Treasury for antitrust and tax evaluation, and also negoti-ated forms of contracts with the finalists. Finally, on February 5, 1985,DOT accepted the Norfolk Southern offer, subject to enactment ofnecessary legislation.1 46

B. Department of Justice Evaluation of Norfolk Southern-ConrailConsolidation

The Department of Justice (DOJ) evaluation lacked any direct prece-dent. In the first place, NERSA had no provision for any DOJ involve-ment if Conrail was sold as a whole and provided only for DOJ commentsif Conrail was sold in pieces. 147 Secondly, it was clear from the beginningthat any sale to Norfolk Southern would (as all railroad sales have since1920) take place under a statutory exemption from the antitrust laws. Inthe absence of any direct precedent, it would have been logical for DOJ toanalyze the impact on competition using the balancing approach found inICC merger decisions.

Norfolk Southern, however, did not know and was not told whatapproach DOJ would take. Throughout the fall of 1984, it furnished largeamounts of traffic data and other information at DOJ's request. Later in1984 and early in 1985, it furnished additional information on particularstations and commodities identified by DOJ.

DOJ analyzed the combination as if it were in fact subject to theClayton Act. Substantively, its study followed the pattern of recent DOJstudies submitted in ICC merger proceedings.148 But there was animportant procedural difference. In an ICC proceeding, DOJ's role hasbeen to explain the anti-competitive impact of a transaction. The Com-mission has weighed that impact against other public interest consider-ations in reaching a decision. In the Norfolk Southern-Conrail referral,DOJ was not only the advocate of competition, but the judge of whatshould be done to preserve it.

On January 29, 1985, Assistant Attorney General for Antitrust J. PaulMcGrath reported to Secretary of Transportation Elizabeth Dole that theNorfolk Southern-Conrail combination was acceptable, subject to dives-titures.149 The divestitures were required to be sufficient to add a railroad

146 See The United States of America Norfolk Southern Corporation Memorandum of

Intent of February 8, 1985.147 45 U.S.C. § 767(a).148 Testimony of Acting Asst. Att'y Gen. Charles F. Rule, House Commerce Transporta-

tion and Tourism Subcommittee, April 30, 1985.149 See supra note 138.

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competitor to enumerated markets, and to link those markets to themajor eastern and western interchange points, or "gateways."' 5 0

Negotiating the DOJ-required divestitures and agreeing on a salesprice proved difficult. Finally, on April 19 and June 5, 1985, NorfolkSouthern entered agreements with the Pittsburgh and Lake Erie Rail-road (P & LE) and Guilford Transportation Industries for the transfer ofapproximately 1400 miles of line (including leased lines) for a consider-ation of $18 million and $50 million, respectively. In addition, theagreements provided over 200 miles of trackage rights to connect thesystems where no suitable line was available for sale.

In the fall of 1985, in response to criticism of the condition andcompetitiveness of the line to St. Louis that Guilford was to purchase,Norfolk Southern and Guilford modified their agreement to substitutetrackage rights over the Conrail main line. The Justice Department alsorequired other changes, including direct access to Detroit for Guilford.Finally, on November 20, the Justice Department announced that thestructure of the divestiture satisfied its concerns.15 1

With these changes, the divestitures will result in the transfer of 1094miles of line (including leased lines) and 1167 miles of trackage rights.The price to P&LE and Guilford is $21.8 million and $35 million,respectively.

V. A VIEWPOINT ON RAIL-RAIL COMPETITION AND THE NORFOLK

SOUTHERN-CONRAIL AFFILIATION

A. DOJ Underestimated the Pervasiveness of IntermodalCompetition in Conrail's Market

Although Norfolk Southern negotiated and signed the required dives-titure agreements, it consistently took the position that the remedy wasexcessive. To some extent it disagreed with DOJ's analysis of markets.More fundamentally, Norfolk Southern's view rested on a sense of wherethe railroad industry was going. Particularly in Conrail territory,Norfolk Southern saw a railroad industry with less and less heavy freighton which to rely, and so with greater and greater dependence on generalmerchandise and trailer-on-flatcar, container-on-flatcar business. Thatbusiness, however, was precisely the business for which trucks couldeffectively compete, particularly for the short distances in Conrail'sregion of operations. In fact, Norfolk Southern itself was experiencing

150 Specifically DOJ found that Conrail/Norfolk Southern must divest to an independent

acquirer rail assets along an east-west corridor between Buffalo and Pittsburgh on the eastto Chicago and St. Louis on the west. See supra note 138. The acquirers were to have accessto serve certain shippers in eight counties in New York, Ohio, and Indiana and a directconnection with third party railroads in Buffalo, East St. Louis, Toledo, and Chicago. Id.

"' Roanoke Times & World-News, November 22, 1985 at A8, col. 2.

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losses to trucks in some of the very markets identified by DOJ as

potentially subject to rail market power.15 2

A number of features of the DOJ study caused it to understate the truck

competition which was Norfolk Southern's dominant concern. First of

these features was the study's underlying data base, the 1977 Census of

Transportation. 153 Although DOJ tried to account for subsequent devel-opments, 154 the computerized selection of problem markets on the basis of

traffic shares did not reflect the growing role of trucks.Second, in an effort to be conservative, DOJ insisted on looking at

markets in terms of very highly defined commodities, specifically, five-digit Standard Transportation Commodity Codes (STCC). 155 A largepercentage of truck volumes are not broken down that far in the records,so even if the identical five-digit STCC is moving preponderantly by

truck, it may be recorded as, say, a three-digit commodity and never enterthe data base at the level of detail DOJ used. Furthermore, the ultimateissue is the substitutability of truck carriage for rail carriage, and inmany instances the differences between the characteristics of commodi-ties at the five-digit level are so small that trucks can carry one aseffectively as another.

Also, the DOJ required a very high truck share of the market, morethan 50%, to rebut the inference of rail market power.156 In reality muchsmaller truck shares may show that trucks are capable of capturing moretraffic even if railroad raises rates.

For all these reasons, DOJ tended to find competitive problems withthe Norfolk Southern-Conrail combination where problems were notlikely to exist.

B. DOJ Placed Emphasis Unprecedented in Recent History onPreserving Rail-Rail Competition in the Divestitures

The addition of another rail carrier between Buffalo and Chicago toreplace Norfolk Southern as an independent rail competitor for Conrail inthat corridor is understandable, if not ultimately in the public interest.157

Norfolk Southern and Conrail do have, more or less, parallel lines

152 Just between 1980 and 1984, the rail share of the U.S. freight bill dropped from 13%

to 11% and trucks captured more and more merchandise business. L. M. SCHNEIDER, RAILROAD

STRATEGIES FOR THE 1980'S AND 1990's (Railway Finance Law Group, October 4, 1985).' See McGrath Letter, supra note 138, at 4 (January 29, 1985).

114 DOJ supplemented the 1977 data with survey and interviews with shippers. See id., See id. at 3 n.3.156 See generally id. at 3-4.

157 Guilford has agreed to purchase Norfolk Southern/Conrail lines between these two

cities pursuant to DOJ's divestiture requirements. See id. at Attachment A.

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between those cities'5s (although Norfolk Southern has been increasinglyunable to compete with Conrail in this corridor given the significantlygreater volume of traffic on Conrail and the better service Conrail cantherefore provide). Similarly, understandable is DOJ's insistence that theindependent competitor be given the right to access industry at major railshipping centers currently served by both Conrail and Norfolk Southernon or reasonably adjacent to this corridor (e.g. Cleveland, Toledo, Ft.Wayne, steels mills in Lorain, Canton and Massillon, Ohio).159 DOJ'sconcern for preserving rail-rail competition at the expense of fragmentingtraffic in the relatively shorthaul, truck-dominated Buffalo-Chicagocorridor is less compelling than the Commission's concern for preservingrail-rail competition in the long haul transcontinental corridor in theUP-MP consolidation, 16° but it is at least understandable.

What is more difficult to understand is DOJ's decision to requireindependent rail competitors be given access to Pittsburgh, St. Louis anda myriad of minor rail markets in between.161 Norfolk Southern is aminor player in the rapidly declining Pittsburgh rail market, runningfour trains per day at most, into or through the area, and the future of itsline into Pittsburgh, without regard to Conrail, is not bright, given thelevel of business and the cost of maintaining the line. And NorfolkSouthern's lack of access to industries in the Northeast has hurt itsposition for much of the business moving over the St. Louis gateway.

The divestitures have now gone so far as to provide the independentrail competitors (i.e. Guilford and P&LE) access to relatively smallshipping points located off the St. Louis corridor, such as Wabash,Hartford City, and Kokomo, Indiana, to establish rail-rail competitionbetween the independents and Norfolk Southern-Conrail beyond thatwhich now exists by opening all Norfolk Southern-Conrail Indianapolisarea industries to Guilford on a competitive basis (and granting Guilfordthe right to take over switching of all such industries from Conrail), andto actually increase, not simply maintain, the number of competing railcarriers in Toledo and Ft. Wayne. Guilford is even granted the right toperform the switching on major portions of Conrail's St. Louis line, notonly for its own account but also for Conrail's, all in the interest ofpreserving rail-rail competition.

1"' The Official Railway Guide (Nov/Dec 1985). As a matter of historical interest, the

Norfolk Southern Buffalo-Chicago line was built in 1880-82 principally in order to turn aquick profit by selling it to the then owner of Conrail's Buffalo-Chicago line, the Lake Shore& Michigan Southern. E. F. P. STRIPLIN, supra note 90, at 275. Under pressure from DOJ,Lake Shore's successor, New York Central, spun off the Norfolk Southern line to indepen-dent owners in 1916. Id. at 278.

159 See McGrath Letter, supra note 138, at Attachment A.160 See supra notes 85-88 and accompanying text.161 See id.

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C. DOJ's Attention to Rail-Rail Competition Goes Far BeyondWhat Is Required Under Transportation Law

or the National Transportation Policy

DOJ has had the opportunity in the Norfolk Southern-Conrail trans-action to impose its view on the role rail-rail competition should play ina rail affiliation. It is important, however, that it be understood thatDOJ's position is at odds with the views of Congress, the courts, and theCommission as evidenced by their actions in establishing or interpretingthe Interstate Commerce Act and national transportation policy over thelast 65 years. And, DOJ has repeatedly attempted to persuade the courtsand the Commission to adopt its views but has failed.162 DOJ's views alsofind no support in the legislation creating, and determining to sell,Conrail. 163 Preservation of rail service in the Northeast has been the aim,and excessive rail-rail competition has been viewed as detracting fromthat goal.DOJ is frank in admitting that the proposed acquisition of Conrail "was

analyzed... according to the same standards and principles... [applied]to mergers generally."164 What DOJ ignores, and has always ignored inrail consolidations, is that, rightly or wrongly, there is a nationaltransportation policy which encourages consolidation of rail carriers inorder to preserve, with minimal disruption and human cost, a nationalrail transportation system.

It is possible the shipping public would have been better off today ifCongress had decided to use Section 7 of the Clayton Act as the standardfor rail consolidations.1 65 Perhaps if the Seaboard Air Line and AtlanticCoast Line, or Great Northern and Northern Pacific, had not beenpermitted to merge in the 1960's and 1970's, the pressures of truckcompetition and the inability to consolidate facilities and personnelwould have forced those roads to take the drastic steps Florida East CoastRailway has taken to survive [i.e., take a long term strike (with itsdisruption and human costs) and eventually become a non-union, low costcarrier.] 16 Perhaps, however, such efforts by one or all of these roads, and

162 See supra text accompanying notes 47, 57, 67 & 72.163 See supra notes 93-134 and accompanying text.

64 See McGrath Letter, supra note 138, at 3.165 Indeed, DOJ believes the Clayton Act standard and Interstate Commerce Act

standards are "substantially the same." Id. at 2 n.2."'b The Florida East Coast Railway had been a marginal carrier for years while

operating under the burdens of the national collective bargaining agreements. In 1963 it

accepted a strike rather than acquiesce in the national agreement, (see Brotherhood of Ry.

& S.S. Clerks v. Florida E. Coast Ry., 384 U.S. 239 (1966)), and eventually prevailed. In

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others, would have failed and they would have by now entered thebankruptcy courts. And even that result might not, in DOJ's view, beunacceptable: the freedom to compete is the freedom to fail and if a largepart of the rail industry has become redundant, so be it. The answer toDOJ, at least for now, however, is that Congress continues to believe thatmaintaining a healthy rail industry by means of consolidation, for thevarious reasons discussed previously, is in the national interest.

Be that as it may, DOJ's views have carried the day, Norfolk Southernhas committed to the unprecedented divestitures establishing two newcompetitors to Norfolk Southern-Conrail, and the matter is before Con-gress. What Norfolk Southern has the right to ask at this stage is foracknowledgement by responsible participants in the Conrail sale processthat the rail-rail competition issue has, by virtue of the divestitures, beenat least adequately addressed and is now a non-issue. Informed opponentsof the Norfolk Southern acquisition who raise the spectre of monopoliesand antitrust are, at this stage, merely attempting to buttress a positionthey have chosen to take for other reasons.

Author's Note

On February 4, 1986, the U.S. Senate approved by a vote of 54-39,legislation sponsored by DOT providing for Conrail to be sold to NorfolkSouthern. The legislation provided that DOT was authorized to proceedwith the sale in conjunction with the divestitures required by DOJ. In theface of the announced opposition to the sale by the Chairman of the HouseEnergy and Commerce Committee, and at the request of DOT, on May 9,1986, Norfolk Southern increased its cash offer to the government forConrail to $1.9 billion (and, for the first time, agreed to InterstateCommerce Commission review, on an expedited basis between enactmentof the sale legislation and consummation of the sale, or any competitiveissues raised by the sale). Nonetheless, the legislation did not advance inthe House and, ultimately, on August 21, 1986, Norfolk Southernwithdrew its offer to purchase Conrail. The preceding article was writtenprior to these developments. The consideration given to the issuesanalyzed in this article will remain relevant as alternative dispositions ofConrail are contemplated by the government.

recent years Florida East Coast has been consistently profitable in a geographically limitedmarket with strong truck competition.

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Documents

Loss of Rail Competition as an Issue in the Proposed Sale